Uranium Squeeze

The price of uranium, as well as investor interest, has been on the rise over the past few months. There are plenty of smarter investors than me who have already spent the time and effort in laying out the thesis, but, still, for a general idea, ever since 2011, the price of uranium has been depressed and under the marginal cost of production. The estimated marginal cost of production is at least $60 per lb. of uranium, but since the price has spent most of the past decade between the $20s and $30s range, there has been significant underproduction. So, here’s a reduction of supply, but on the other hand, there is solid and reliable growth in the demand for uranium, as more and more plants come online. Currently, there is a gap between demand and mining supply of around 30M-50M lbs., which is being satisfied by secondary inventory. The whole thesis of the squeeze relies on the market incentivizing more production by raising the price per lb. above the marginal cost of production. The marginal cost of production is the price uranium needs to be in the spot and long-term markets for mines to be economically profitable. What makes it even more interesting is that, recently, Sprott, a new player, is acting as a catalyst by cornering the market. We’ll come back to them in a minute.

The fundamental thesis that demands far outweighs supply, in addition to the long-term secular trend of renewable energy, already made this a great idea, but the Russia-Ukraine conflict and the subsequent reactions of governments have made this investment even more attractive. It is evident that Europe depends on Russian oil and gas, and nuclear is one of their only remaining options. In addition, it is important to note that the biggest uranium operations are the Kazakhstan state-owned company Kazatomprom (22% of global output) and Russian venture Uranium One (9% of global output). After that, you have western companies such as BHP, Cameco, Energy Resources of Australia, and Rio Tinto with considerably less production output.

More recently, the U.S. government said it was weighing a ban on imports of Russian uranium. As a response, Russia went ahead and said they were considering a ban on uranium exports to the U.S. I don’t see how this doesn’t affect the market as the U.S. imports around 16% of their uranium from Russia. As we can see, the price per lbs. has increase dramatically from the $30s in September 2021 to around $45 before Russia invaded Ukraine. From there, the price has risen to approximately $58.

Anyways, back to Sprott. Sprott is a global asset manager with $20.4B AUM, specializing in precious metals like gold and silver as well as real assets such as uranium. Their products include physical commodity trusts, managed equities, ETFs, and private equity and debt strategies.

While they have traditionally focused on the gold and silver markets, Sprott is starting to become a major player in the uranium market. Back in 2020, they acquired Uranium Participation Corp and established the Sprott Physical Uranium Trust, where they raise funds to buy physical uranium from the spot market by selling trust units. More recently, they acquired the exclusive rights to the index tracked by the North Short Global Uranium Miners ETF, the only uranium pure-play ETF in the U.S. It will be renamed to Sprott Uranium Miners ETF and will be accretive to AUM.

Since launching the Physical Uranium Trust, they have bought roughly $2B worth of uranium, making utility companies pay up in the spot market. Essentially, for demand to be satisfied, the price needs to be above the marginal cost of production, and as Sprott buys up the supply, the price will go up to incentivize more production.

How to Play It?

There are several options when thinking about how one could express their opinion. For example, you could go and buy the Sprott Physical Uranium Trust, SRUUF. There is still room to go with his commodity. $65 is the price many consider what it needs to be for a mining operation to be marginally profitable, but that does not mean that prices can go higher. Here, the play is directly correlated to the price of uranium, nothing else.

As another option, you could go with uranium miners’ ETF like URNM. This could provide a larger return, but it is obviously riskier. Instead of betting that the price will rise, you are now adding idiosyncratic risks as you are wagering in the future of a mining operation as well as the future price of the commodity. There is a high chance that “a rising tide lifts all boats,” but many of these mines suffer from political or operational risks. In my case, mining and processing is not my area of expertise. I am more interested in the supply/demand dynamics taking place in the underlying commodity. Continuing on this theme, one could buy shares in the Kazatomprom KAP.IL, but the risks are much more obvious here. While you would own the lowest cost producer, there are still geopolitical risks at play here, without even mentioning political unrest in Kazakhstan. You could also go after Cameco CCJ, which also comes with the nuances of a mining operation, but since it is a Canadian company, there’s a lesser degree of geopolitical risk as well as domestic unrest when you compare it to a country like Kazakhstan. As always, I encourage readers interested in the senior and junior miners to do their own due diligence and weigh the idiosyncratic risks of the operation, especially on a commodity like uranium.

The third option is not entirely a pure-play on the uranium market. I’m talking about our previously introduced player, Sprott (SII). Here, the bet is not directly on uranium prices, but also on the precious metals sector. More specifically, this option is based on the idea that investors will flock into Sprotts’ physical trusts, thus increasing net income.

As I had mentioned, Sprott is already active in the gold and silver markets. In addition to the $2B AUM in the Physical Uranium Trust, Sprott also has AUM exposure of a bit under $13B between their physical gold trust, gold and silver trust, silver trust, and platinum and palladium trust, and another $2B in their precious metals managed equities strategies.

The precious metals thesis is pretty straightforward and lies in the fact that since we are in an inflationary environment, there will come a time when the Fed tightens the economy. Once they do that, the value of precious metals like gold and silver will likely get their time to shine.  

In addition to a rise in commodity prices, this investment vehicle is geared more towards investors betting that there will be a larger than expected interest in these assets, and, hence, increased inflows into the funds over the next months. Sprott earns a blended management fee rate of .51% through all of its products, so as AUM grows, so does net income.

 Concluding Thoughts

This is obviously a very high-level overview of what is going on right now in the uranium market, but this seems like a self-fulfilling prophecy to me. As supply dwindles down, utility companies will be forced to buy uranium at higher spot prices because if they don’t, the plants in which they have invested billions, will be unproductive.

Based on the fundamental supply/demand characteristics of the asset, I see it as an incredible opportunity. My personal choice on how to play it leans towards SRUUF and then SII, with a small allocation maybe a few miners as a leveraged way to play the sector.